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Should You Opt for a Roth Thrift Savings Plan?

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Posted in Savings Account

roth thrift savings plan
Good news for active duty military members and civil service personnel: The Thrift Savings Plan (TSP) just announced they will be offering a Roth version of the account. The Roth TSP has all the same benefits of your beloved TSP, but has similar tax benefits to a Roth 401(k), and in some ways, it is also similar to the Roth IRA.

Let’s take a look at some of the benefits, and find out when you might be able to take advantage of this retirement plan.

Benefits of Roth Thrift Savings Plan

If you are familiar with the Thrift Savings Plan, you know that it is an employer-sponsored retirement plan that gives employees tax breaks when they invest in their retirement funds. The traditional TSP gives you a tax break now, reducing your taxable income, and allowing you to invest your retirement funds without the drag of taxes until you make withdrawals in retirement age. You will pay taxes once you make withdrawals.

The Roth TSP is similar, but with one major exception: You pay taxes on your income now, then invest your money after your taxes have been paid. You will not pay any taxes when you make qualified withdrawals in retirement age. The benefit of this is you can often come out ahead in the long run, since your retirement funds will grow substantially with compound interest. Additionally, many eligible TSP member (especially military members) aren’t at their maximum earning potential, allowing them to make contributions after paying taxes at a tax rate that is potentially lower than their tax rate will be in retirement.

Bonus Benefits for Contributions Made in Tax Free Zones

Military members who make contributions while in a tax-free zone get the added benefit of making contributions to their Roth TSP with income that hasn’t been taxed, and never will be! It’s rare to find a way to avoid the tax man forever, and there is nothing quite like this for civilians. This is a great strategy to add to your investments while deployed.

Comparing the Roth TSP vs Roth IRA

The inevitable comparison is between the Roth TSP and Roth IRA — and to be honest, they are quite similar in many regards. There are a few notable differences, however.

The TSP is employer-sponsored and is basically automatic once you set it up. It also has some of the lowest expense ratios in the nation, making it an easy and cost-effective way to invest for your retirement. To top it off, the Roth TSP contribution limits are much higher than Roth IRA contribution limits, allowing you to shelter up to $17,000 of your base pay each year (plus an additional $5,500 if you are over age 50), and you can contribute up to 100 percent of your special pay, reenlistment bonuses, hazard duty pay and similar pays you earn while on deployments, up to a total of $50,000. (Don’t forget the special tax benefits for contributions made in tax-free zones!).

A Roth IRA, on the other hand, is an individual investment, leaving you to decide where to open it, which investments to choose and how much to invest each month — it’s very hands-on unless you set up automatic contributions from your bank account. The limit for Roth IRA contributions is $5,000 per year, (up to an additional $1,000 if you are age 50 or over).

You can contribute to both. The TSP may be easier to use than opening your own Roth IRA, plus it has the advantage of tax-free zone contributions, but you aren’t limited to one or the other. These are completely different investments and you can contribute to both of them if you like.

When You Can Start Making Contributions

The Roth TSP looks like it will be well worth the long wait, even if you have to wait a few more months before you can make contributions. The Roth TSP will have a phased roll out, with different agencies adopting the program at different times (this has to do with the complexities of the military and civil service pay systems).

DFAS officials announced that the USMC will be the first group of service members to be eligible to contribute to the Roth TSP, starting in June of 2012. DoD Civilians will get access to the program in July, followed by the USAF, Army and Navy, all of which will have access in October 2012.